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Although the United Kingdom (UK) left the European Union (EU) at 11pm on 31 January 2020, the terms of the Withdrawal Agreement between the UK and the EU provide for a transition period until 31 December 2020 (Exit Day). During the transition period, the European Securitisation Regulation (ESR) and any applicable regulatory technical standards (RTS) will continue to apply to UK market participants.
After Exit Day, a parallel securitisation regime will operate in the UK by virtue of changes made to the ESR under the UK Securitisation (Amendment) (EU Exit) Regulation 2019 (UKSR) as part of the UK government’s “onshoring” of existing EU law (so-called retained EU law). Although the changes are intended to prevent, remedy or mitigate deficiencies in the text of the ESR and delegated technical standards as a result of Brexit (e.g., by replacing references to the “the union” with references to “the United Kingdom” and substituting references to “EU regulators” with references to “the relevant UK regulator”), some of the amendments have provided much needed clarity on the scope and application of the regime. This is likely to be welcomed by market participants.
The key differences between the ESR and the UKSR include clarification that:
- An investment firm, whether located in the UK or in a third country, can qualify as a “sponsor” (provided that it falls within the sponsor definition) for risk retention purposes, and the sponsor can delegate the active portfolio management of a securitisation to another entity regardless of the jurisdiction in which the delegate is authorised. Under the ESR, the delegate must be authorised in the EU, so this amendment will provide some flexibility to UK securitisation transactions.
- Where the originator, sponsor and securitisation special purpose entity (SSPE) (the Parties) are located outside of the UK, an institutional investor need only verify that such entities have made available information, which is “substantially the same”, as would be available if the Parties were located in the UK. Whilst further guidance is required to explain what is intended by the phrase “substantially the same”, this amendment is likely to be viewed as a positive development by institutional investors.
- Any securitisation recognised as simple, transparent, and standardised (STS) under the ESR before Exit Day or added to the European Securities and Markets Authority (ESMA) STS register up to two years after Exit Day will be recognised as an STS securitisation in the UK for the life of the securitisation. This will mean that UK banks and financial institutions will continue to benefit from favourable regulatory capital treatment when investing in UK STS securitisations. It remains to be seen whether the EU will “recognise” UK STS securitisation transactions as being equivalent, including UK securitisation transactions that are currently designated as STS securitisation transactions under the ESR. If no changes are made to the ESR framework, there is a risk that such transactions will no longer benefit from the STS designation under the ESR after Exit Day.
- An asset backed commercial paper (ABCP) cross-border securitisation will be recognised as an STS securitisation transaction where the sponsor is located in the UK, even if the originator and the SSPE is located outside of the UK. For a non-ABCP cross-border securitisation, the transaction will qualify as an STS securitisation transaction if the sponsor and the originator are located in the UK, even if the SSPE is located outside of the UK. This offers greater flexibility than under the ESR, which requires all three parties to be located in the EU.
Although further changes or clarifications (including the publication of regulatory guidance) may be made to the UKSR prior to Exit Day or shortly thereafter, market participants can start taking steps now to manage their transactions in light of the upcoming Exit Day, including:
- Considering structuring cross-border transactions so that they fall within either the UKSR or the ESR regime. This is likely to be driven by the location of the investor base.
- Ensuring that the deal documentation includes the relevant legends, selling restrictions language and Brexit risk factors.
- Considering whether existing transactions are at risk of losing STS designation after Exit Day.
- Engaging with investors to assess the feasibility of restructuring securitisation transactions in order to maintain STS designation after Exit Day.
- Ensuring that the securitisation position is correctly designated for regulatory capital purposes if STS designation cannot be maintained after Exit Day.
It will be important to continue to monitor developments in this space in the lead up to Exit Day. If you have any questions or concerns, please get in touch with your usual contact at Reed Smith.